Chapter 4. What makes up the FICO Score?
All financial institutions that lend funds to consumers owe an obligation of reporting the financial behavior of their consumers to the 3 reporting agencies (Experian Links to an external site., Transunion Links to an external site., Equifax Links to an external site.). These 3 credit reporting agencies, also known as credit bureaus, collect financial information and keep track of the financial behavior of consumers from lenders and other vendors. Through this process, each consumer establishes a credit history that gets recorded in a report.
Based on that, each of the credit bureaus issues a three-digit financial grade, known as a credit score or FICO Score (Fair Isaac Corporation). In order for you to protect your financial reputation, you need to monitor your financial behaviors and understand the interrelationships among the use of your credit card, history, report, and score. Start with asking yourself some of the questions below:
How to
In order to answer these very important questions, you need to fully understand what makes the FICO score, what is the weight or influence of each element on the overall score, and what is in a credit report.
What makes up the score?
What actions will hurt the score?
- Missing payments (regardless of dollar amounts, it will take 24 months to restore credit with one late payment)
- Credit cards at capacity (i.e., maxing out credit cards)
- Opening up numerous credit accounts in a short time period
- Having more revolving loans in relation to installment loans
- Loans at finance companies
What does not Affect the Score?
- Income
- Length of residence
- Length of employment
Approximate Credit Weight for each Year
How can you improve your FICO Score?
- Pay down on credit cards
- Do not close credit cards (because capacity will decrease)
- Continue to make payments on time (Old late pays will become less significant with time)
- Slow down on getting new loans
- Acquire a solid credit history with years of experience
- Move from revolving debt (e.g., credit cards) to installment debt (e.g., car loans, mortgages for houses)
As a student, you might think it is too early to think about your FICO score. However, remember that your credit history will decide the score for you in the future when you are ready to buy a car or a house. Besides protecting your financial reputation as a great citizen and consumer, a high FICO score can help you get better terms and interest rates when you apply for a loan or mortgage.
Practice
Now, you know how FICO score works. Think about paying it forward and teach a friend or a family member a thing or two about the many benefits of keeping a clean financial history.
Congratulations! You can move on to Chapter 5. What's in a credit report?
To review the full module on Credit cards, click here.